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Microfoundations of Two-sided Markets: The Payment Card Example

  • James McAndrews
  • Zhu Wang

This paper provides a theory of two-sided market dynamics with arguably better microfoundations. These alternative microfoundations focus on observable heterogeneities of both sides of the market in a competitive framework. The theory is rich in empirical predictions and is less dependent on a particular form of imperfect competition than other approaches. Our findings in the payment card example point to adoption costs and the distribution of consumer incomes and firm sizes as the key determinants of the shares of costs borne by each side. This result provides clear implications for industry dynamics and sheds light on the puzzle of asymmetric pricing.

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File URL: http://www.dnb.nl/binaries/Working%20Paper%20128-2007_tcm46-146785.pdf
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Paper provided by Netherlands Central Bank, Research Department in its series DNB Working Papers with number 128.

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Date of creation: Jan 2007
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Handle: RePEc:dnb:dnbwpp:128
Contact details of provider: Postal: Postbus 98, 1000 AB Amsterdam
Web page: http://www.dnb.nl/en/

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  1. Fumiko Hayashi, 2004. "A puzzle of card payment pricing : why are merchants still accepting card payments?," Payments System Research Working Paper PSR WP 04-02, Federal Reserve Bank of Kansas City.
  2. Zhu Wang, 2006. "Learning, diffusion and the industry life cycle," Payments System Research Working Paper PSR WP 04-01, Federal Reserve Bank of Kansas City.
  3. Allen N. Berger & Loretta J. Mester, 2002. "Explaining the dramatic changes in performance of U.S. banks: technological change, deregulation, and dynamic changes in competition," Working Papers 01-6, Federal Reserve Bank of Philadelphia.
  4. Chakravorti, Sujit & To, Ted, 2007. "A theory of credit cards," International Journal of Industrial Organization, Elsevier, vol. 25(3), pages 583-595, June.
  5. Jovanovic, B. & MacDonald, G., 1993. "The Life Cycle of a Competitive Industry," Working Papers 93-34, C.V. Starr Center for Applied Economics, New York University.
  6. Comin, D. & Hobijn, B., 2004. "Cross-country technology adoption: making the theories face the facts," Journal of Monetary Economics, Elsevier, vol. 51(1), pages 39-83, January.
  7. Sujit Chakravorti, 2003. "Theory of credit card networks: a survey of the literature," Payment Cards Center Discussion Paper 03-09, Federal Reserve Bank of Philadelphia.
  8. Rodolfo Manuelli & Ananth Seshadri, 2003. "Frictionless technology diffusion: the case of tractors," Proceedings, Federal Reserve Bank of San Francisco, issue Nov.
  9. Stuart E. Weiner & Julian Wright, 2005. "Interchange fees in various countries : developments and determinants," Proceedings – Payments System Research Conferences, Federal Reserve Bank of Kansas City, issue May, pages 5-49.
  10. Robert E. Lucas Jr., 1978. "On the Size Distribution of Business Firms," Bell Journal of Economics, The RAND Corporation, vol. 9(2), pages 508-523, Autumn.
  11. repec:rne:rneart:v:5:y:2006:i:1:p:71-102 is not listed on IDEAS
  12. Schwartz Marius & Vincent Daniel R., 2006. "The No Surcharge Rule and Card User Rebates: Vertical Control by a Payment Network," Review of Network Economics, De Gruyter, vol. 5(1), pages 1-31, March.
  13. Evans, David & Schmalensee, Richard, 2005. "The Economics of Interchange Fees and Their Regulation: An Overview," Working papers 18181, Massachusetts Institute of Technology (MIT), Sloan School of Management.
  14. Richard Sullivan, 2004. "Payment services and the evolution of Internet banking," Payments System Research Briefing, Federal Reserve Bank of Kansas City, issue Aug.
  15. Schmalensee, Richard, 2002. "Payment Systems and Interchange Fees," Journal of Industrial Economics, Wiley Blackwell, vol. 50(2), pages 103-22, June.
  16. Wright, Julian, 2003. "Optimal card payment systems," European Economic Review, Elsevier, vol. 47(4), pages 587-612, August.
  17. repec:reg:rpubli:105 is not listed on IDEAS
  18. Julian Wright, 2001. "The Determinants of Optimal Interchange Fees in Payment Systems," Industrial Organization 0108001, EconWPA.
  19. Farrell Joseph, 2006. "Efficiency and Competition between Payment Instruments," Review of Network Economics, De Gruyter, vol. 5(1), pages 1-19, March.
  20. Kevin J. Stiroh, 2002. "Information Technology and the U.S. Productivity Revival: What Do the Industry Data Say?," American Economic Review, American Economic Association, vol. 92(5), pages 1559-1576, December.
  21. Jean-Charles Rochet & Jean Tirole, 2007. "Must-Take Cards and the Tourist Test," DNB Working Papers 127, Netherlands Central Bank, Research Department.
  22. Zhu Wang, 2006. "Technology Innovation and Market Turbulence: A Dotcom Example," 2006 Meeting Papers 508, Society for Economic Dynamics.
  23. Rochet Jean-Charles, 2003. "The Theory of Interchange Fees: A Synthesis of Recent Contributions," Review of Network Economics, De Gruyter, vol. 2(2), pages 1-28, June.
  24. Courchane, Marsha & Nickerson, David & Sullivan, Richard, 2002. "Investment in internet banking as a real option: theory and tests," Journal of Multinational Financial Management, Elsevier, vol. 12(4-5), pages 347-363.
  25. Jean-Charles Rochet & Jean Tirole, 2002. "Cooperation Among Competitors: Some Economics Of Payment Card Associations," RAND Journal of Economics, The RAND Corporation, vol. 33(4), pages 549-570, Winter.
  26. Mark Armstrong, 2005. "Competition in Two-Sided Markets," Industrial Organization 0505009, EconWPA.
  27. Richard J. Sullivan & Zhu Wang, 2005. "Internet banking: an exploration in technology diffusion and impact," Payments System Research Working Paper PSR WP 05-05, Federal Reserve Bank of Kansas City.
  28. Rochet Jean-Charles & Tirole Jean, 2006. "Externalities and Regulation in Card Payment Systems," Review of Network Economics, De Gruyter, vol. 5(1), pages 1-14, March.
  29. Richard J. Sullivan, 2000. "How has the adoption of Internet banking affected performance and risk in banks?," Financial Industry Perspectives, Federal Reserve Bank of Kansas City, issue Dec, pages 1-16.
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